Morgan Stanley Initiates SHLD with a Sell

This morning’s initiation of coverage on Sears Holdings (SHLD) by Morgan Stanley could prove to be one of the worst analyst calls of the year. I can understand people who doubt the viability of combining Sears and Kmart in order to turn the franchises around. As an analyst though, I would suggest those bears simply stick a neutral rating on the stock and highlight the risks that go along with banking on this combination.

Slapping a sell on this stock, even at $150 per share, is a very risky proposition and could make the retail group at Morgan look like idiots if certain things go right. The basic premise for the sell rating is that Morgan feels Sears Holdings can not be fixed. That’s a fair view, but I think you should at least give them a chance before pronouncing the company dead. The merger just closed and they haven’t even had a chance to implement their strategy yet. Those plans are just beginning and could take until 2006 to bear fruit.

There are many catalysts that could send this stock higher over that time. There will be real estate sales. After all, there are Kmart and Sears locations next to each other throughout the country. Retailers like Costco (COST) are struggling to find new store lots and when they do, it takes several years to get permission to build on them. That’s how extra off-mall real estate becomes valuable.

Sears Holdings also hasn’t announced anything about Sears Canada or some of their other divisions that don’t fit in with the main strategy. What will happen with Lands End or Orchard? They have $1.6 billion in cash and a lot of debt outstanding that can be retired early. All of these catalysts are unrelated to reinvigorating the core brand, but matter very much to the value of the business, and the share price.

Sticking your neck out and recommending purchase is a gutsy call (but one I’m willing to make), especially when the stock is up 10-fold since emerging from bankruptcy. However, I think putting the rare sell rating on this stock will prove one of the worst analyst calls of 2005 when we look back on this years from now.

3 Thoughts on “Morgan Stanley Initiates SHLD with a Sell”

Posting a “neutral” rating on the stock would only amout to the same ineffectual analyst work that has been the problem of the past. You may disagree with the “sell” rating – why don’t you have a “neutral” rather than a “buy” for all the very same reasons you point out in your piece? Because you believe in your position. This analyst has a view and is taking a position, precisely what we need more of.

The only reason for a “neutral” – from this analyst’s view of the stock – would be to not harm all of Morgan’s big clients, and yourself, that are long the stock. The future has yet to be painted, but seems you’re saying you’d rather have him slap a “sell” on it after it’s already down 30% as most other analysts do?

While I agree that “sell” ratings are still too rare in this business, this does not mean I will praise any such rating. SHLD has more upside than most of the stocks that trade today. With many catalysts coming in the next several months and years for this company, a sell rating is simply imprudent in my opinion. That call could lose a lot of investors and clients a lot of money.

I admire a gutsy call that others are not willing to make, but in this case, a lot of harm could be done with it, and I believe will be done by it, at least from the point of view of Morgan clients.

You could make the same argument about Google at its IPO. Many analysts were negative at the $85 offer price, suggesting fair value in the 50’s or 60’s. Now yes, they did have an opinion, as opposed to not going public with one, but that opinion was about as wrong as they could have ever been, and their clients missed out on a run from $85 to $300 per share. Even worse, many of them shorted the stock on the way up and lost money there too.

I agree a “sell” rating deserves praise at times, when others are unwilling to take a position on a company. However, I’ll always prefer someone not willing to make a recommendation to a person who gets the call completely wrong and costs investors and clients millions of dollars.

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